I meant to comment earlier on Blogonlog’s posting about Datamonitor’s “Logistics Benchmarking and Profiler 2006” report that spells possible trouble for the logistics industry, but of course as you well know we were down for a few days, so I am only getting to it now. I agree with Blogonlog, I too am not buying into this analysis just yet, although the report does indicated some troubling trends:

Furthermore, even the companies who have seen large increases in revenue have not necessarily translated this into an improvement in their bottom lines, as average operating margin slipped from 3.4% in 2004 to 2.7%.According to Chris Morgan, Datamonitor logistics analyst and author of the report, there are two main drivers for this.

The first has been the dramatic increase in oil prices, which has raised transportation costs. “Although a proportion of this rise has been passed on to customers, some of this has inevitably eaten away at profitability,” says Morgan.

The second problem is the low pricing power of the 3PLs. “Even after the latest wave of M&A, the logistics market is still highly fragmented. Datamonitor’s research shows that only four European players have a global market share in contract logistics of over 1%.”

A couple of comments regarding these 3 paragraphs. First, if high fuel prices have affected 3PLs bottom lines, then that is because they allowed it to do so. The companies I have dealt with and those that I know personally are passing on the full brunt of the fuel price increases to their customers. I can only guess that those that are not either have not accurately assessed their fuel costs and passed them on accordingly or have done so purposely in an effort to appear more competitively priced to their customers.

For those that are doing it purposefully, perhaps it is a long term strategy to garner trust and loyalty from their customers. Sometimes a goodwill gesture, such as keeping temporary surcharges low, can do a lot to increase loyalty. It is possible that such companies will fare better over the long run as fuel costs begin to decrease. However, it has been my experience that if you offer superior service and communication while being honest about your costs with your customers that they will remain loyal regardless.

As for pricing power, it is true that the market is still highly fragmented. With such immense competition pricing power will indeed be low. It is possible that such a situation will facilitate the weeding out of weaker players while successful players grow stronger. And I believe those companies that will be successful will not do so based on a strategy of price competition; successful 3PLs will be those that are well diversified or offer an extremely specialized niche service, as well as constantly innovating and utilizing the best technology.

I am reminded of one of the stories from Big Blues chronicling the history of IBM up to the early 90’s, where an executive came to his boss concerned that a competitor was offering a similar product at a much lower price. The executive and his team had done a number of studies and could not figure out how the competitor was turning a profit at such low prices, concluding IBM would lose money if they tried to match the competitor. The executive’s boss basically said: what makes you so sure they are making money? Leave our prices where they are. Sure enough, their competitor went on to post losses and eventually went out of business while IBM’s product became successful.

This is a lesson I have learned in my own career as competitors have tried to steal customers by offering ever lower pricing. In one of my previous lives I had a client who was notorious for demanding incredibly reduced rates, on the spot, for whatever job we happened to be handling at the time, usually after they had just received a visit from one of our many competitors. More than once I would calmly and professionally reply with a resounding “no” with the argument that service would suffer to unacceptable levels if we tried to match such costing. More than once the customer would threaten to take the business elsewhere, and yet they never did. A few times they actually pulled some specific jobs away from us, only to contact us, embarrassingly, after things had gone horribly wrong and needed our help to pull their fat out of the fire. We never did lose the customer and steadily increased the level of business we did with them until we were their primary provider. I remember a lunch we had with them where they joked that they would eagerly switch the business to one of our cheaper competitors if our service wasn’t so incredibly good.

Bottom line, there is bound to be some shakeout within the industry, but companies with superior service and cost control, as well as innovative management and operations, should fare well over the long term.

Stumble it!